The construction sector, which has returned 23.99% year to date, is one of the most attractive areas right now. The sector P/E (F1) is 14.08X compared to 17.66X for the S&P 500. Its PEG of 1.40X is also better than the 1.92X for the S&P 500.
Of the 80 companies in the sector that have reported to date, 49 (61%) topped the Zacks Consensus estimate, 3 (4%) were in line while 27 (34%) missed. Despite a substantial number of negative estimate revisions, EPS is still expected to grow 10.25% this year, better than the 5.94% growth expected of the S&P 500.
Data from the U.S. Bureau of Economic Analysis shows that in 2018, the industry’s contribution to U.S. GDP was close to its 2008 peak level while output was much higher.
While the sector is coming off a relatively strong 2018, there are indications that growth will continue this year, albeit at a slower rate.
Thinking of the sector as the sum of its parts, we have public works like highways and bridges and building construction, including residential (single family and multi-family) and other (commercial, institutional, government).
As far as the public works segment is concerned, the Chief Economist, American Road & Transportation Association (ARTBA) says that spending on public highway, street and related investment will be up 4.8% from $63.4 billion in 2018 to $66.5 billion this year. Additionally, the real value of bridge and tunnel construction work will increase 1.5% from $31.2 billion to $31.7 billion.
Both federal and state governments will contribute to the increased spending. Following initiatives to raise funds by increasing or adjusting motor fuel tax rates and other fees by 30 states, local governments now have sufficient resources to pump into required construction projects. Federal investments through the 2018 appropriations bill that approved spending of $2.5 billion and the 2015 FAST Act will add to these funds, when the states choose to deploy them (they can take up to 4 years).
The residential construction market is expected to be flattish this year because the positives and negatives are roughly balancing off. High prices, raised interest rates and steady mortgage rates have impacted affordability on the demand side through last year and with interest rates holding steady this year, there is limited incentive to buy.
On the other hand, rising labor and materials costs have made it more difficult to profitably produce the smaller apartments that are more affordable and so in greater demand. This is leading to inventory buildup in more expensive units and short supply in the more affordable dwellings. Cost inflation is the primary factor driving dollar growth in the segment. The National Association of Home Builders (NAHB) expects construction activity to be mostly concentrated in the west and south where job and population growth remains strong.
The commercial and other construction side remains more attractive because of continued spending on lodging, data centers, warehouses, airports and K-12 schools.
The primary challenge for the industry is the scarcity of skilled labor. The softness in homebuilding may free up some labor, but the shortage actually stems from an aging skilled force. According to IHS Markit, 30% of the industry’s skilled workforce will retire over the next 10 years. So training, retraining, building and retaining the workforce is a top priority. This is raising costs for construction companies.
Compounding this problem is technological disruption in the form of robotics, drones, 3D printing, artificial intelligence and modularization. If the industry is able to harness technology as it trains new hands, it may be able to come out of the labor shortage problem. But it is typically slow to change, so these moves will take time.
The other major factor impacting costs is materials stemming from the government’s decision to increase tariffs on steel and aluminum. Since the higher prices are being passed on to construction companies, it is raising costs for them, which they in turn are trying to pass off on to customers.
Also, because the market is expected to be less robust than in 2018, there will be more competition for projects.
Given this backdrop, here are some great picks –
EMCOR Group, Inc. (EME - Free Report)
EMCOR Group is a provider of critical infrastructure systems including electrical, mechanical, lighting, air conditioning, heating, security, fire protection, and power generation systems across sectors. EMCOR Construction Services is a nationwide group of mechanical and commercial electrical contractors for U.S. commercial, healthcare, institutional, education, hospitality, manufacturing, transportation and water and wastewater markets.
EMCOR Building Services is involved in maintenance of facilities. EMCOR Industrial Services focuses on project execution in the refining and petrochemical industries.
This Zacks Rank #1 (Strong Buy) company topped estimates in the last quarter by 21.9% (average 4-quarter surprise is 14.46%). Its 2019 estimate is up 3.8% and 2020 estimate is up 4.5% in the last 60 days. Its 15.0% expected growth for the next 5 years surpasses the industry’s 9.80%.
Great Lakes Dredge & Dock Corporation (GLDD - Free Report)
Great Lakes Dredge & Dock Corporation is the largest provider of dredging services in the U.S., maintaining shipping channels, reclaiming ocean land and re-nourishing storm-damaged coastlines. Around 25% of its operations are international, mainly in the Middle East.
This Zacks Rank #1 company topped estimates in the last quarter by 357.14% (average 4-quarter surprise is 547.62%). Its 2019 estimate is up 47.8% and 2020 estimate is not available yet. It has grown 10.6% in the last 5 years.
MasTec, Inc. (MTZ - Free Report)
MasTec is one of the largest providers of construction services to the U.S. telecommunications industry. It is primarily involved in the installation and maintenance of aerial, underground and buried copper and fiber optic cable, underground conduit, manhole systems and related construction for local telephone companies, including regional bell operating companies such as BellSouth Telecommunications, U.S. West and SBC Communications, and non-Bell local telephone companies such as Sprint and GTE.
This Zacks Rank #1 company topped estimates in the last quarter by 34.88% (average 4-quarter surprise is 11.23%). Its 2019 estimate is up 4.6% and 2020 estimate is up 4.9% in the last 60 days. It has grown 17.9% over the last five years and will grow at an average 8.0% in the next five.
North American Construction Group Ltd. (NOA - Free Report)
North American Construction Group provides heavy construction and mining services primarily in Canada. It offers services to large oil, natural gas and resource companies.
This Zacks Rank #1 company topped estimates in the last quarter by 8.33% (average 4-quarter surprise is 36.11%). Its 2019 estimate is up 16.4% and 2020 estimate is up 8.1% in the last 60 days. Its revenue and EPS are expected to grow 64.35% and 221.43%, respectively in 2019.
Anhui Conch Cement Co. (AHCHY - Free Report)
Anhui Conch Cement Company Limited, together with its subsidiaries, manufactures and sells clinkers and cement products under the CONCH brand in the People's Republic of China and internationally. It also provides construction and installation services for industrial purposes; logistic and loading services; and mining and related services.
In addition, the company manufactures and sells cement packaging products and refractory materials; trades in coal products; and develops and sells profile and related products, as well as exports clinker and cement products. Anhui Conch or Conch Cement is the largest cement manufacturer in mainland China.
You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
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